Rarely will you meet an economist who doesn’t like trade. And if you are a student of James Buchanan—as I am—you really like trade, because Buchanan stresses to all his students that economists should begin by studying markets and exchange (catallactics or katallactics) rather than resources allocation. Adam Smith, and later David Ricardo, demonstrated how specialization and trade can produce optimal output. But, this is not the only reason to like voluntary exchange. If the parties involved in the exchange are both rational, self-interested, and acting of their own volition, then they will only engage in exchange when they are made better off. This must be the case for both parties, thus trade is mutually beneficial. This logic applies to the exchange of baseball players, as well. This generates the following myth:

Every trade has a winner and a loser — Swapping resources only takes place if both parties are made better off. Therefore, when we observe trades taking place, it’s likely that both parties are doing so because they expect to improve their teams (see the weak axiom of revealed preference, or as I call it: “the useful WARP“). Mistakes happen, but as a general rule, all parties to trades are winners. Who says economists aren’t touchy-feely?

Now, what people mean by winning and losing may differ. Some commentators like to argue that we should look backwards to evaluate a trade to see what ultimately happened. I disagree; the future is difficult to project, and I believe that trades should be evaluated according to what the parties knew at the time of the trade. In the long run, every trade will likely turn out to be better for one party or another. Who cares? Just because someone wins the lottery doesn’t mean that the winner should be praised for his/her investment acumen. It’s wrong to punish a GM for not having information that no one else had either—was it really possible to predict what would happen to Ken Griffey in Cincinnati?

At this point, I defer to the fundamental theorem of exchange: rational and self-interested parties will only voluntarily trade when both parties expect to be made better off by the exchange. Players change teams only because both GMs sees the new player as superior to the old. And this doesn’t necessarily mean playing quality: salary requirements, service time, age, and contract length also play important roles. In some cases, player skill-sets just fit better on different teams.

Commentators often begin their analysis of a trade by asking “who won?” This is the wrong place to start, because trade is not a zero-sum game. Rather than trying to identify winners and losers, I try to understand why the trade happened. Sometimes, I don’t get the deal; and, in this case, it’s OK to say “this GM got fleeced.” But, I rarely find myself saying this. Most times I find that deals make sense for both sides, as economic theory predicts.

Thursday, November 12th, 2009,
by JC and is filed under "Hot Stove Economics ".
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One Response “Trade(s) Is (Are) Mutually Beneficial”

Sometimes, it’s easy to say the GM got fleeced. John Schuerholz on Mark Teixeira? Clearly got fleeced. We knew it at the time, and we know it even more now that Neftali Feliz has become Texas’ response to Mariano Rivera.